Alissa B. Gorman, Semanoff Ormsby Greenberg & Torchia

With approximately one in six children in the United States between the ages of 3 and 17 diagnosed with a disability, practitioners will increasingly serve clients who wish to leave assets to a family member with special needs. Comprehensive planning for the transfer of assets to a beneficiary with a disability requires not only a focus on maximizing the longevity of those assets by ensuring the assets are in a protective arrangement, but also a broader discussion on who will provide future daily care for the beneficiary, where such care will be provided, and the expenses related to such care. Understanding the financial and personal needs of the beneficiary allows the practitioner to identify the client’s goals and provide recommendations that alleviate anxiety regarding the care a loved one will receive when the client is no longer able to manage such care.

The four main methods of transferring assets to a beneficiary with a disability include: funding a third party-funded special needs trust; opening an ABLE account; a transfer to someone other than the individual with disabilities to hold and use for the benefit of such individual; and an outright gift to the beneficiary. The following questions will guide the practitioner in recommending an appropriate method of transfer:

  • Does the beneficiary currently receive any means-tested government benefits, such as Supplemental Security Income (SSI) or Medicaid, that limit the amount of assets permitted in the beneficiary’s name?
  • Will the beneficiary receive any means-tested government benefits in the future?
  • Is the beneficiary able to make his own legal decisions?
  • If the beneficiary is competent, is he able to manage and access his own monies in an independent manner or with the assistance of a trusted individual?
  • Where will the beneficiary reside when the current caregiver is no longer able to provide adequate care?
  • What is the cost of such care?
  • Who will pay for such care?

An affirmative answer to any of the first four questions triggers consideration of a third party-funded special needs trust (TPSNT) to hold assets passing to the beneficiary from any source. By far the most common method of transferring assets to an individual with a disability, a TPSNT is typically established in combination with an estate plan as either an intervivos or testamentary trust. Assets held in the trust are excluded for SSI and Medicaid eligibility purposes and allow the beneficiary to maintain funds for his supplemental use while continuing to receive means-tested benefits.

A TPSNT must include certain requirements to qualify as an excluded resource. The settlor must clearly intend for the trust to supplement and not supplant government benefits and consider such benefits prior to a trust distribution. The trustee must have total and absolute discretion to pay income and principal for the beneficiary’s special needs. Cash should not be distributed directly to the beneficiary. Drafters should avoid restricting specific distributions even if they would reduce the beneficiary’s SSI. Paying rent from the trust, for example, will reduce, but not eliminate, SSI, and emergency situations may require temporary rental assistance from the trust. The beneficiary may never serve as trustee and should not contribute any of his own monies to the trust.

Certain situations may warrant trust provisions for trustee removal, a trust protector, Crummey powers, and IRA provisions. The power to remove and replace a trustee may be granted to the beneficiary or a third-party. Use of a trust protector is especially advantageous in TPSNTs, as the settlor can grant the protector the right to remove and replace the trustee, monitor the care of the beneficiary, require monthly visits with the beneficiary, or consult with the trustee on distributions. Crummey powers may be included if a grantor wishes to make significant lifetime gifts to the trust. The beneficiary with special needs must be specifically excluded as demand beneficiary; otherwise, the state could compel the beneficiary to exercise his withdrawal rights.

Tax-deferred assets payable to a TPSNT may qualify to stretch the payout if the trust meets several requirements that qualify it as a “see through” trust. See-through trust status allows the trust beneficiaries to be treated as the designated beneficiaries of the plan and permits the account to pay out over the lifetime of the oldest beneficiary. The trust must accumulate the required minimum distributions (RMDs) to avoid benefits ineligibility. Using trust income throughout the taxable year to purchase goods and services for the beneficiary will reduce the income tax impact of the RMDs by pushing the tax liability to the beneficiary’s return. In the estate planning phase, consider leaving tax-deferred assets to a beneficiary without special needs to avoid the negative income tax aspects of accumulating the RMDs in the trust.

The second transfer method involves funding an Achieving a Better Life Experience Act (ABLE) account. This account is most useful for a competent beneficiary who maintains a level of financial independence. Assets in the account are excluded for SSI and MA purposes. ABLE account investments grow tax free, similar to an educational 529 plan. If distributions are spent on “qualified disability expenses” (QDEs) (as defined by Social Security), then income is not taxable to the beneficiary. The maximum total annual contribution limit is $15,000, with a lifetime cap equal to the maximum contribution to educational 529 plans, which varies by state. However, if the total value of the ABLE account exceeds $100,000, then SSI payments are suspended until the value decreases below such amount (Medicaid is not affected). An educational 529 plan may be rolled into an ABLE account subject to the annual contribution amount.

Pennsylvania permits a state income tax deduction for ABLE account contributions and does not assess Pennsylvania Inheritance Tax at the beneficiary’s death. However, if the beneficiary receives Medicaid long-term care services after age of 55, the ABLE account is subject to Pennsylvania’s Estate Recovery Act.

A beneficiary must meet certain eligibility requirements to open an ABLE account. The beneficiary must have a qualifying disability that manifested prior to the age of 26; if the individual did not begin receiving SSI before age 26, he must self-certify that he was disabled prior to that age. The individual with disabilities is the account owner and beneficiary; however, a minor or incapacitated person must be represented by an “authorized agent” (parent, guardian or agent under power of attorney) to open an account.

ABLE accounts have several advantages over TPSNTs. The beneficiary directly controls the account and need not request distributions from a trustee. A beneficiary may contribute earned income to the account, which prevents assets in the beneficiary’s own name exceeding the $2,000 resource limit for SSI. Rental payments qualify as a QDE, and distributions from an ABLE account to pay rent will not reduce SSI as it would from a TPSNT.

The disadvantages of ABLE accounts include the $15,000 aggregate funding cap and the chance that the Estate Recovery Act may subject the monies to a payback to the state. ABLE accounts are best funded through lifetime gifting and should not be the exclusive method of transferring assets to an individual with a disability at death. An administrative provision in a TPSNT could allow a trustee to distribute funds to an ABLE account for the beneficiary thereby allowing a competent beneficiary with a TPSNT some financial independence.

The third method, an outright transfer to the beneficiary, is the most straightforward, and may be considered for a high functioning beneficiary. The beneficiary should be able to manage his own monies in a responsible manner, either independently or with the guidance of trusted individuals. If the beneficiary receives any means-tested benefits and wants to maintain them into the future, this type of transfer would cause financial ineligibility for such benefits. An outright transfer is also not favorable for a beneficiary under a legal guardianship, as the assets would be considered part of guardianship estate and subject to court jurisdiction.

The final option is an outright transfer of assets to an individual with the intention that the funds be used for the benefit of an individual with a disability. This transfer method effectively disinherits the individual with a disability from the client’s estate plan and may provide a greater share of the client’s estate to another person. After the allowance of TPSNTs, this method has become disfavored, but may be appropriate in situations where a family member will be the future caregiver or the client has a modest amount of assets and declines the use of a trust.

Practitioners should exercise extreme caution in recommending this final option. Once the third-party receives the assets, he has no obligation to use such funds for the individual with special needs since the assets are the legal property of the third party. The assets are exposed to the third party’s creditors or could become subject to equitable division in a divorce. If the third-party dies intestate, or has a will that fails to effectively transfer the assets upon his death for the benefit of the individual with special needs, the assets could pass to the third party’s other family members who may not choose to use them for the benefit the individual with special needs.

Individuals with a family member with special needs oftentimes delay creating an estate plan because it is too difficult to think about who will care for their vulnerable family member when they no longer can. Creating an appropriate estate plan for the client and beneficiary with special needs requires the practitioner to understand the medical and financial needs of the beneficiary and the wealth transfer tools available to meet those needs.

Alissa B. Gorman, an attorney at Semanoff Ormsby Greenberg & Torchia, concentrates her practice in estate planning, estate administration, guardianship, special needs trusts, and elder law planning.  She assists individuals and families with the preparation of various trust agreements, including Special Needs Trusts, Medicare Set-Asides, Settlement Preservation Trusts and Minor’s Trusts. Contact her at agorman@sogtlaw.com.